The top line for Onyx Pharmaceuticals (NASDAQ:ONXX) should certainly be celebrated: A 17% increase in the sales of cancer drug Nexavar is nothing to sneeze at. But investors should be cautious about future growth and how much is going to trickle down to earnings.
Onyx and its marketing partner, Bayer, have a different arrangement for Japan compared to the rest of the world. In most places, Onyx records revenue in the form of a joint venture, but it receives royalties on sales Bayer makes in Japan. Nearly half of the increase in Nexavar sales compared to the year-ago quarter came from Japan, where Onyx gets a 7% royalty rate. If you count all the cost of the joint venture and Onyx's individual selling, general and administrative expenses, about 18% of every dollar from sales in the rest of the world can trickle toward the bottom line.
Royalties in and of themselves aren't bad -- Gilead Sciences (NASDAQ:GILD) gets them from Roche for Tamiflu and royalties have become an integral strategy for OSI Pharmaceuticals (NASDAQ:OSIP), which receives them from Roche for ex-U.S. sales of Tarceva and for patents that cover diabetes drugs made by Merck (NYSE:MRK), Novartis (NYSE:NVS), and Bristol-Myers Squibb (NYSE:BMY). But clearly Onyx would prefer growth to come from places where it gets a higher portion of sales. Unfortunately the recent launch in Japan will likely mean a lot of growth in sales at the lower rate.
To continue growth at a healthy clip, Onyx needs to prove that Nexavar works on additional tumor types -- it's currently approved to treat liver and kidney cancer. Investors might complain about the 55% increase in research and development expenses, but I don't think Onyx has much of a choice. Results in trials under way for breast, ovarian, and lung cancer -- three large markets -- will drive sales in the future.
The potential of Nexavar will always be a major component in the value of Onyx, but investors should watch the growth in current indications -- and where it's coming from -- in case the additional indications don't pan out.
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